Morgan Stanley-S&P Whammy Roils Edcon Bonds: South Africa Credit

Janice Kew

October 9, 2014, 6:00 PM EDTUpdated on October 10, 2014, 9:42 AM EDT

Bonds of Edcon Holdings Ltd., the South African clothing retailer owned by Bain Capital Partners LLC, are feeling the effects of a ratings downgrade and Morgan Stanley note advising traders to short the securities.

The yield on Edcon’s 425 million euros ($542 million) of notes due June 2019 surged 23.3 percentage points last month to this year’s high of 44.33 percent on Sept. 26, according to data compiled by Bloomberg. The yield was at 38.9 percent at 3:31 p.m. in Johannesburg. That compares with a 0.27 percentage-point increase for the dollar-based JPMorgan Chase & Co.’s Corporate EMBI Broad Diversified Consumer Sector Blended Yield index.

Edcon, whose debt was 7.6 times Ebitda in the fiscal first quarter through June, was cut one step to seven levels below investment grade on Sept. 30 by Standard & Poor’s, which cited its “substantial debt” and declining sales on credit. The Johannesburg-based company has struggled to boost earnings as South Africa’s inflation and unemployment of more than 25 percent hurts consumer spending. A Morgan Stanley sales and trading note on Sept. 24 advised betting the securities will fall because “the capital structure is unsustainable.”

“The thing that is really crippling Edcon is the debt,” Kyle Rollinson, an analyst at Avior Capital Markets, said by phone. “Edcon has principal payments on loans coming due from 2016, but if yields continue to remain high, the company may find it difficult to refinance this debt.”

Financial Challenges

Edcon’s financial challenges are exacerbated by the fact that it has interest expense of 2.7 billion rand ($244 million) compared with operating profit of 560 million rand in fiscal

2014. That will make servicing existing debt harder, he said.

The S&P downgrade “ultimately reflects Edcon’s heavy dependence on the South African economy and its concentration in clothing and footwear merchandise,” the retailer said in an e-mailed response to questions. The report “recognizes that Edcon’s short-term liquidity is well covered and it has no material short-term debt maturities,” it said.

The company, bought by Boston-based Bain in 2007 for about 25 billion rand, said in November the proceeds of the senior fixed-coupon notes would be used to refinance debt maturing in June 2015. Total debt rose 16 percent to 22.7 billion rand as of June 30, Edcon said Aug. 21.

Credit Sales

Edcon reported a first-quarter loss of 499 million rand, down from 712 million rand the previous year. Bain isn’t planning an initial public offering of the company until the retailer has reported at least three quarters of profitability, Edcon Chief Executive Officer Jurgen Schreiber said in August. Bain declined to comment on the bond-yield move or Morgan Stanley note when contacted by Bloomberg.

Approvals for shoppers wanting to buy on credit at Edcon stores have fallen by about 50 percent since Barclays Plc’s South African unit took over the retailer’s book in 2012, while efforts to find a potential second provider of credit have been unsuccessful. Sales made on credit account for almost half of Edcon’s total retail revenue.

“It’s a tough time for credit retailers and this makes Edcon vulnerable,” Bruce Main, a money manager at Johannesburg-based Ivy Asset Management, said by phone. “Cash-sale retailers are certainly the most valuable in this climate.”

Edcon, which operates chains including Edgars, Red Square and low-cost Jet, has been revamping outlets and introducing international brands in an effort to claw back market share, which fell to 17 percent in 2012 from 22 percent a year after the Bain buyout, according to Euromonitor data.

“Edcon is a company that over time you’d want to own,” Wayne McCurrie, a Johannesburg-based money manager at Momentum Asset Management, said by phone. “But for now the worst is still to come for the credit retailers.”

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